Can an affiliated finance company (or the retail vendor that sold to it) claim a sales tax refund on bad debts from accounts the finance company bought at a discount?

Plain-English summary

Company B is a retail vendor that sells taxable goods and sometimes finances customer purchases. When a customer is a credit risk, Company B sells the receivable — without recourse, at a discount — to Company A, a commonly-owned affiliate. Customers whose accounts land with Company A pay Company A directly, and some of those customers never pay at all.

Generally, only the ORIGINAL vendor (the one that collected and remitted the sales tax) can claim a refund or credit when a receivable turns out to be uncollectible — and generally, once a debt is sold to a third party, NOBODY gets that refund, even the original vendor, regardless of whether the third party has recourse back to the vendor. There's a narrow exception for a genuine "captive finance company": an affiliate wholly owned by (or under common ownership with) the retail vendor that meets five specific conditions, including critically that customer PAYMENTS go to the retail vendor, not the finance affiliate, and that the finance affiliate has recourse back to the vendor on bad debts.

Company A fails this test on two separate grounds. First, customers pay Company A directly rather than paying Company B (violating the "payments must flow to the retail-vendor" requirement). Second, Company A doesn't have recourse to Company B on unpaid debts — the receivables were transferred WITHOUT recourse. Because Company A isn't a qualifying captive finance company, its purchase of Company B's receivables is treated as a straightforward third-party debt sale: neither Company A (which never collected the tax in the first place) nor Company B (which sold the debt away) can claim the sales tax refund on the resulting bad debts.

What this means for you

Businesses using an affiliated finance company for customer credit risk

If you want your affiliated finance arm to preserve your bad-debt sales tax refund eligibility, structure it as a genuine "captive finance company" from day one: customers must pay the RETAIL VENDOR (not the finance affiliate) directly, and the finance affiliate must have full recourse back to the vendor on any bad debt. Selling receivables without recourse, or routing customer payments directly to the finance affiliate, breaks the captive structure and forfeits the refund for everyone in the chain.

Accountants and tax professionals

This ruling is a clean checklist against 20 NYCRR 534.7(a)(5)'s five captive-finance-company conditions — payment routing and recourse are the two the Department focused on here, but ownership structure, exclusivity to the affiliated vendor, and no third-party sales matter too. Useful reference for any related-party receivables-financing arrangement where the client wants to preserve bad-debt refund eligibility.

Common questions

Q: Can an affiliated finance company claim a sales tax refund on bad debts it buys from a related retailer?
A: Only if it qualifies as a genuine "captive finance company" under the regulations — including customers paying the retail vendor directly and the finance company having recourse back to the vendor on bad debts.

Q: What if the finance company doesn't qualify as captive?
A: Then the receivables are treated as sold to an unrelated third party, and generally NEITHER the finance company nor the original retail vendor can claim the bad-debt refund.

Q: Does having common ownership between the retailer and finance company automatically qualify it as captive?
A: No — common ownership is one of five required conditions, but payment routing and recourse must also be satisfied.

Q: Can another business with a similar affiliated-finance structure rely on this Advisory Opinion?
A: No. It binds the Department only for the petitioner and facts described; another arrangement's specific terms should be checked against the full five-part captive-finance-company test.

Citations and references

Statutes, regulations, and case law:

• Tax Law §§ 1101(b)(8); 1131; 1132(a), (e); 1133(a)
• 20 NYCRR 534.7(a), (b)
• Matter of General Electric Capital Corp. v NYS Division of Tax Appeals, 2 NY3d 249 (2004)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/sales_ao_2005.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/sales/a05_45s.pdf

Original ruling text

New York State Department of Taxation and Finance

TSB-A-05(45)S
Sales Tax
December 27, 2005

Office of Tax Policy Analysis
Technical Services Division
STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. S050815A

On August 15, 2005, the Department of Taxation and Finance received a Petition for
Advisory Opinion from Grana & Teibel, CPAs, P.C., 300 Corporate Parkway, Suite 116N,
Amherst, NY 14226. Petitioner, Grana & Teibel, CPAs, P.C., provided additional information
pertaining to the Petition on August 25, 2005.
The issue raised by Petitioner is whether a finance company may claim a credit or refund
of the amount of the sales tax included in bad debts from accounts purchased by the finance
company at a discount from its affiliated retail vendor when such accounts become uncollectible.
Petitioner submitted the following facts as the basis for this Advisory Opinion.
Company B (a New York subchapter S corporation for federal and New York State tax
purposes) sells items subject to sales tax on a retail basis and, in some instances, provides
financing to customers on their purchases. If a customer is a credit risk, the account receivable
for the amount financed will be transferred without recourse at a discounted amount to Company
A, also a federal and New York subchapter S corporation owned by the same shareholder as
Company B. Frequently the retail customers of Company B fail to fulfill their contracts.
Company A only buys Company B’s receivables. Company A does not sell its
receivables to a third party. The payments by customers on accounts that are purchased by
Company A are made to Company A.
Applicable law and regulations
Section 1101(b) of the Tax Law provides, in part:
When used in this article for the purposes of the taxes imposed by subdivisions
(a), (b), (c), and (d) of section eleven hundred five and by section eleven hundred ten, the
following terms shall mean:
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(8) Vendor. (i) The term “vendor” includes:

(A) A person making sales of tangible personal property or services, the
receipt from which are taxed by this article;

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Section 1131 of the Tax Law provides, in part:
Definitions- When used in this part IV,
(1) “Persons required to collect tax” or “person required to collect any tax
imposed by this article” shall include: every vendor of tangible personal property or
services; . . .
Section 1132 of the Tax Law provides, in part:
(a)(1) Every person required to collect the tax shall collect the tax from the
customer when collecting the price, amusement charge or rent to which it applies. . . .
The tax shall be paid to the person required to collect it as trustee for and on account of
the state.
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(d) The tax commission may provide by regulation that the tax upon receipts from
sales on the installment plan may be paid on the amount of each installment and upon the
date when such installment is due.
(e) The tax commission may provide, by regulation, for the exclusion from
taxable receipts . . . of amounts representing sales where . . . the receipt, charge or rent
has been ascertained to be uncollectible or, in case the tax has been paid upon such
receipt, charge or rent, for refund of or credit for the tax so paid. . . . (Emphasis added)
Section 1133(a) of the Tax Law provides:
Except as otherwise provided in section eleven hundred thirty-seven, every person
required to collect any tax imposed by this article shall be personally liable for the tax
imposed, collected or required to be collected under this article. Any such person shall
have the same right in respect to collecting the tax from his customer or in respect to
nonpayment of the tax by the customer as if the tax were a part of the purchase price of
the property or service, amusement charge or rent, as the case may be, and payable at the
same time; provided, however, that the tax commission shall be joined as a party in any
action or proceeding brought to collect the tax.
Section 534.7 of the Sales and Use Tax Regulations provides, in part:
(a) Definitions. The following definitions apply for the purpose of determining
entitlement and computation of the refunds and credits authorized in this section only.

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(1) The term uncollectible means worthless, as used for federal income tax
purposes. Legal action to enforce payment when it would probably not result in
satisfaction of a judgment upon a showing of the underlying facts is not a necessary
prerequisite in determining worthlessness.
(2) The term retail-vendor means a vendor of tangible personal property or
services, payment for which is made, in whole or in part, by the extension of credit to the
purchaser by such vendor who is responsible for remitting applicable sales tax to the
department and includes a lessor-vendor which meets the conditions of paragraph (b)(2)
of this section.
(3) The term account-obligor means the purchaser of tangible personal property
or services, the receipts of which are paid, in whole or in part, by the extension of credit
by the retail-vendor.
(4) The term receivables of a retail-vendor means indebtedness to the retail­
vendor incurred by an account-obligor upon his purchases whether or not subject to the
sales and use taxes.
(5) The term captive finance company means a company that meets all of the
following conditions:
(i) it is wholly owned by the retail-vendor or is wholly owned by a
company which is related to such retail-vendor through an unbroken chain of
wholly owned companies;
(ii) it does not finance receivables of any vendor other than its retail­
vendor or any company related to such retail-vendor by an unbroken chain of
wholly owned related companies;
(iii) it does not extend credit to anyone other than in the form of the
purchase of receivables created as a result of extension of credit by the retail­
vendor, except that the requirement of this subparagraph shall not be violated by
the investment of excess cash funds in the short or long-term financial markets or
by advancing funds to its retail-vendor or a company which is related to such
retail-vendor through an unbroken chain of wholly owned companies;
(iv) it does not sell receivables to a third party other than a transfer of a
receivable to its retail-vendor; and
(v) it does not receive payments on the receivable directly from the
account-obligors. Instead, the foregoing payments, including interest, on the
receivable must be made by the account-obligors directly to the retail-vendor, and

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must be reported as income by the retail-vendor for income and franchise tax
purposes.
(6) The term recourse means that all bad debts are transferred back to the retail­
vendor or such bad debts are charged against the retail-vendor's reserve account
established for that purpose.
(b) Allowance of refund or credit. (1) Where a receipt amusement charge,
or hotel rent has been ascertained to be uncollectible, either in whole or in part,
the vendor of the tangible personal property or services . . . may apply for a
refund or credit of the tax paid on such receipt . . . within three years from the
date the tax was payable by such person to the Tax Department. . . .
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(3) A refund or credit is not available for a transaction which is financed by a
third party or for a debt which has been assigned to a third party, whether or not such
third party has recourse to the vendor on that debt.
(4) Receivables transferred to a captive finance company by its retail-vendor (as
such terms are defined in subdivision (a) of this section) will not be treated as debts
assigned to a third party provided the following conditions are met:
(i) such captive finance company has recourse (as defined in paragraph
(a)(6) of this section) on all bad debts to the transferor retail-vendor; and
(ii) annually (for a period determined from June 1st to May 31st of each
year) not more than 10 percent of the receivables of the retail-vendor are incurred
by account obligors upon purchases from any vendor other than the retail-vendor
or a leased department or concession of the retail-vendor which meets the
conditions of paragraph (2) of this subdivision.
Though a retail-vendor is not denied eligibility for the refund or credit with
respect to debts determined to be uncollectible with respect to its receivables financed by
a captive finance company if no more than 10 percent of its receivables (whether or not
financed by the captive finance company) are derived from sales of any vendor other than
the retail-vendor or a leased department or concession of such retail-vendor which meets
the conditions of paragraph (2) of this subdivision, there is no refund or credit allowable
to such retail-vendor with respect to any receivables derived from sales of such other
vendors.
(c) Computation of refund or credit. (1) Only the amount attributable to the sales
tax imposed and remitted to the Department of Taxation and Finance by the vendor

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remaining unpaid by the customer to the vendor is allowable as a refund or credit in
respect of a debt determined to be uncollectible.
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(d) Procedures. (1) No credit or refund may be sought until an account
has been found to be uncollectible and has been actually charged off for federal
income tax purposes.
Opinion
Petitioner presents a scenario in which Company B, a retail vendor, makes retail sales to
customers and in some instances provides financing to the customers. When a customer is a
credit risk, Company B transfers the account receivable to Company A. Some of the customers
whose accounts are sold to Company A fail to fulfill their purchase contracts.
Under section 1101(b)(8) of the Tax Law, Company A is not the vendor of the items that
Company B sells to Company B’s customers. Since Company B sells the items, Company B is
the vendor as defined by section 1101(b)(8) and Company B is responsible for the collection and
remittance of the sales tax imposed on its sales. See sections 1131, 1132, and 1133 of the Tax
Law. Only the vendor or person required to collect tax is eligible for a refund of, or credit for,
the sales tax remitted by it to the State on sales where all or a portion of the receipt for the sale
has been ascertained to be uncollectible. See Matter of General Electric Capital Corp. v NYS
Division of Tax Appeals, Tax Appeals Trib., 2NY3d 249 [2004]; Price Waterhouse LLP, Adv Op
Comm T&F, October 1, 1996, TSB-A-96(61)S. Thus, Company A is not entitled to a refund of,
or credit for, the sales tax collected and remitted by Company B.
Company B is eligible for a refund or credit for sales tax paid for those accounts
receivable sales that it has on its own books and which are determined to be uncollectible.
Generally, a vendor is not eligible for a refund or credit for bad debts from receivables assigned
to a third party regardless of whether the third party has recourse to the vendor on that debt. (See
section 534.7(b) of the Sales and Use Tax Regulations.)
However, section 534.7(b)(4) of the Sales and Use Tax Regulations provides that
receivables transferred to a captive finance company by its retail-vendor will not be treated as
debts assigned to a third party if the conditions of section 534.7(b)(4)(i) and (ii) are met. In order
for an entity to qualify as a captive finance company all of the conditions of section 534.7(a)(5)
of the Sales and Use Tax Regulations must be met. If these conditions are satisfied, the vendor
will be eligible to claim a refund or credit for the sales tax remitted by it to the State on sales
where all or a portion of the receipt for the sale has been ascertained to be uncollectible.
Based on the scenario provided by Petitioner, Company A fails to meet the requirements
of section 534.7(a)(5) of the Sales and Use Tax Regulations and, therefore, is not a captive

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finance company for purposes of section 534.7. Specifically, the customers’ payments on the
accounts transferred to Company A are made to Company A and not to Company B. (See section
534.7(a)(5)(v) of the Sales and Use Tax Regulations.) It should be noted that if Company A
occasionally extended credit directly to Company B’s customers this activity would also
disqualify Company A from being a captive finance company. (See section 534.7(a)(5)(iii) of the
Sales and Use Tax Regulations.)
Company A does not have recourse to Company B on the debts purchased. Therefore, it
does not appear that Company B would be entitled to a refund of, or credit for, tax for bad debts
on accounts transferred to Company A even if Company A qualified as an affiliated captive
finance company for purposes of section 534.7. (See section 534.7(a)(6) and section
534.7(b)(4)(i) of the Sales and Use Tax Regulations.)
It is noted that the captive finance provisions operate to ensure that the vendor who
makes the sale is the same entity that incurs the bad debt and then applies for the refund or credit
authorized under section 1132(e) of the Tax Law. Were the relationship between Company A
and Company B that of a captive finance company and its related retail vendor and the
requirements of section 534.7(b)(4) of the Sales and Use Tax Regulations satisfied, it would be
Company B that would be incurring both the bad debt and the entitlement to the sales tax refund
or credit.
In the present case, however, any bad debts incurred by Company A arise from sales for
which Company B, not Company A, was the retail vendor required to collect and remit sales tax.
Company A is not a captive finance company as defined in section 534.7 of the Sales and Use
Tax Regulations. Therefore, neither Company A nor Company B is entitled under section
1132(e) of the Tax Law or section 534.7 of the Sales and Use Tax Regulations to claim a refund
or credit for the New York State and local sales taxes paid on receipts determined to be
uncollectible.

DATED: December 27, 2005

NOTE:

/s/
Jonathan Pessen
Tax Regulations Specialist IV
Technical Services Division

The opinions expressed in Advisory Opinions are
limited to the facts set forth therein.